The UK equity market made further good progress during the first quarter of 2006. The key drivers for this performance, as we have noted in previous Investment Outlooks, have been the abundant availability of credit, the general low level of global interest rates and the continued high level of merger and acquisition activity led by European companies and global private equity groups. Additional support was also given to markets by the continuation of a number of major companies with their stock repurchase programmes, the theme of ‘de-equitisation’ that we have mentioned a number of times during the past year. We see no particular evidence for any scaling back of these activities during the coming quarter.

There seems to be a clear divergence in the prospects for interest rate movements between the UK and the rest of the world. Whereas it appears that the next movement in interest rates for the USA, Euroland and Japan will be upwards, the deteriorating fiscal and trade position of the UK, combined with a somewhat sluggish productivity record, indicates that the next movement in UK interest rates will be downwards. This continues to support our view that we will see some further weakening in the relative performance of sterling during 2006 against most major currencies and that this will tend to exert upward pressure on UK import prices, particularly for commodities such as oil and gas. It is also worthy of note that there appears to be upward pressure generally on the global price of oil, which has already risen by around 10% since the end of last year.

Last month’s Budget did not introduce any significant tightening in fiscal terms, although there may be some as yet unforeseen consequences in the proposed taxation of a variety of trusts, particularly Accumulation and Maintenance & Interest in Possession Trusts. There was also no radical initiative to restructure fixed-interest markets by issuing considerably more long-dated paper, although we do foresee an increased issuance as the year progresses. As we have consistently noted over the past year, we believe that fixed-interest markets offer little value to our clients at current levels, and see at best mediocre returns from this asset class over the short to medium term. Our funds generally continue to be underweight in fixed-interest securities relative to equities.

Turning to global markets, we continue to favour increasing our exposure in Japan, where we believe a full-scale economic renaissance is underway. The Japanese equity market marked time during the early part of the quarter but moved ahead strongly in the last few weeks of March; we expect continued progress throughout the rest of the year. The US equity markets performed a little better in the first quarter of the year, but as it is not yet clear that we have reached the peak in the US interest rate cycle, we retain some concerns over the economy given the heavily indebted position of the average US consumer. In Euroland, there has again been a series of promising data from Germany, where economic forecasts are expected to be upgraded again and where we envisage further performance from the equity market. The position in France, however, is somewhat different and recent social instability indicates the inherent problems in the French economy at the moment. Overall, there is pressure on interest rates in Euroland to rise and we would expect some modest appreciation of the euro against sterling in the coming few months. Development in capital markets in a number of Eastern European countries continues apace and we retain a selective enthusiasm for these economies for the rest of 2006.

There has been no major change in our investment themes this quarter, although we note some strains in the currency markets, particularly in high-yielding areas such as Iceland and New Zealand. The expected rise in interest rates in Japan also means that cheap finance for speculative purposes is less easily available, and we feel that one or two areas of the commodity markets may be a little overbought in the short term. We retain a positive stance towards companies involved in the sourcing and sale of ‘luxury goods’, and recent results for a number of companies in this area have tended to vindicate this position. Domestically, the UK residential property market appears to have regained some poise whilst commercial investors will have taken heart from the proposals for the introduction of real estate investment trusts (REITs) in the recent Budget, where proposals favourable to the industry were outlined. There has been continued interest from overseas investors in City and West End office and retail sites and we expect these trends to continue throughout 2006.

Overall, the UK consumer has remained resilient throughout the early part of 2006, although recent results from a number of companies involved in the retailing sector indicate that, after a reasonable Christmas, trading conditions are once again somewhat difficult on the High Street. We retain our bias towards stocks with overseas earnings able to benefit from a trend towards a weaker pound. Resources, mining and aerospace stocks continue to retain their attractions.

Once again, therefore, the outlook for equity markets over the summer is broadly encouraging. We envisage continued merger and acquisition activity given the plentiful availability of finance and interest from Europe in the UK equity market, and foresee further growth coming from Japan and Pacific Rim economies. Balanced against this, global oil prices and commodity prices such as copper and zinc have continued to rise and there is always the threat of further instability in the Middle East, which would have a significantly damaging effect on sentiment. Our preference for equities over fixed-interest investments remains intact and we look forward with some degree of confidence towards prospects for the future.



Back to top

We monitor today’s themes to identify the opportunities of tomorrow